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The Germany That Said No

The stimulus pleas of the Obama administration fell on deaf ears in Berlin. Guess whose economy is growing faster.

Nov 8, 2010, Vol. 16, No. 08 • By CHRISTOPHER CALDWELL
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Cultural biases aside, German policymakers do think the United States is misguided as a matter of economic reasoning. “We think they’re wrong,” says one top official. “We think you don’t get the multiplier they say.” The multiplier is the measure of how much economic activity results from emergency government spending. Discussions of the multiplier were at the center of the debates over the Obama stimulus plan. Christina Romer and the president’s other economic advisers argued that the multiplier would be around 1.6—the government would create $1.60 worth of economic activity for every dollar it spent. At those rates, who can afford not to stimulate? “Our research says the multiplier is more like .60,” says the German official. If he is correct, then a stimulus plan can actually deaden an economy rather than stimulate it. If he is correct, you might have been as well off to have taken the stimulus money and thrown it away.

What he calls “our research” does not mean studies commissioned by the German government. It means academic papers that are either skeptical about stimulus in general or question the long-reigning orthodoxy that stimulus plans based on government spending outperform stimulus plans based on tax cuts. The consensus on these matters is shifting in the academy, too. The Harvard economist Alberto Alesina and his colleague Silvia Ardagna published an influential paper last fall in which they surveyed all the major fiscal adjustments in OECD countries between 1970 and 2007 and showed that tax cuts are more likely to increase growth than spending hikes. One of their most controversial findings—which comes from the work of two other Italian economists—is that cutting deficits can be expansionary, particularly if it is done through “large, decisive” government spending cuts, as it was in Ireland and Denmark in the 1980s. More generally, Alesina has argued that “monomaniacal” Keynesians have focused unduly on aggregate demand.

This is certainly the view of German policymakers. “Three years ago, no supply-side economist, no rational-expectations economist was ready for what was about to happen,” one official says, alluding to two schools of economic thought generally considered conservative. “They were frustrated, disoriented. The Keynesians were not. They said: ‘We have the solution. Run deficits.’ ” It is only now, he says, that non-Keynesian economists are beginning to make a coherent case that that is the wrong way to go about matters. “It’s not as easy as saying: ‘Take on some debt and everything will be fine.’ ” 

One should not exaggerate the extent of Germany’s break with the big-spending orthodoxy that has dominated thinking on the crisis in the United States. Germany has stimulated. This is the original “social market economy,” after all, where high wages and lavish benefits were built out of vast society-wide deals between big labor and big business. The system broke down over the course of the 1980s and 1990s, as global competition rose and Germany lacked the resources to both cosset its workers and modernize the backward, ex-Communist economy of what had been East Germany. Wrenching—but highly successful—reforms were made to Germany’s welfare system and labor markets in 2003 and 2004. 

But Germany is still, relative to the United States, a kind of social-democratic paradise. The welfare state is still armed with many more programs that kick in in tough economic times and serve as “automatic stabilizers.” Since 2003, these have become more sophisticated and flexible, and better adapted to a globalized economy. Wolfgang Clement, who served as what we would call the “czar” of economic reform under Social Democratic chancellor Gerhard Schröder, says that “these other instruments have been underestimated” in explaining why Germany is recovering from the downturn of 2008 and the United States is not. The system is already highly stimulative.

There is, for instance, Kurzarbeit, a sort of expanded earned-income tax credit. When big German firms are producing below capacity, rather than lay off workers permanently, they cut their hours and their pay, and the government covers much of the lost wages. In stimulative terms, this has helped a lot—it means that consumer spending has not dropped in Germany as much as it has in the United States. (Whether Kurzarbeit would suit the United States under any circumstances is another question. Probably not. A major justification for it in Germany is the looming demographic collapse mentioned above. German businesses are well aware that the next generation will see labor shortages, and that it might be impossible in a boom to find replacements for workers laid off in a bust.)

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